It is now over a year since the period for comments on the original Leases Exposure Draft closed and the IASB (International Accounting Standards Board) and FASB(US Financial Accounting Standards Board) began re-deliberating their proposals. As reported previously in Leaseurope inside, a lot of changes have been made to the Boards’ project during this time and, although re-exposure has been promised in the second quarter of 2012, a new set of proposals remains far from being finalised.

One of the main sticking points in the Boards’ discussions has been how to resolve the frontloading of expenses created under the right of use model for lessees. In fact, a lot of the debate has centred on whether this is an issue that needs to be resolved at all. The “front-loading” effect arises under the right of use model for lessees of today’s operating leases because of a measurement mismatch between the liability side (which is amortised like a loan) and the asset side (which under the current proposals will be amortised like other assets, invariably on a straight-line basis). This means that, in the earlier years of a lease, the sum of the interest and straight-line depreciation charges typically exceeds the rental payments the lessee is making, thus making lessees look less profitable than under current accounting.

The Boards have been arguing that this is a logical consequence of recognising assets that are financed by a corresponding liability on lessee balance sheets. Nevertheless, many constituents, including Leaseurope, have pointed out the negative consequences of that decision, questioning 1) whether there are truly liabilities that should be recognised under leases and 2) if liabilities and assets are recognised, why there cannot be a measurement approach that is specific to leases and reflects the lessee’s consumption of economic benefits in the right of use asset in a manner that would not unduly affect the P&L.

During the January meeting of the IASB/ FASB Leases Working Group, this issue was a top priority on the agenda. Representing Leaseurope, the Chairman of our Accounting Committee, Mark Venus (BNP Paribas), reiterated our position that, if the right of use model is to be applied, all right of use assets must be subject to annuity depreciation as this aligns the measurement of the asset and liability in the vast majority of cases. Many other working group members expressed similar views and, as a result, the next decision-making meetings of the Boards, which took place in February, focused on this issue.

While they continue to debate lessee accounting, the Boards have made more progress with respect to accounting for lessors. The partial de-recognition approach, now redubbed the receivable and residual approach, will apply to all lessors except lessors of investment property. Encouragingly, the Boards have agreed that the residual asset should be accreted in line with what the leasing industry has been arguing for, in order for the accounting to reflect the economics of deals. For manufacturer and dealer lessors, this accounting model implies that they will be able to recognise a sales profit proportionate to the rights they have transferred to the lessee in all cases, including under today’s operating lease contracts. A few issues still need to be resolved in our opinion, such as lessor presentation (including the presentation of guaranteed residual values) and impairment.

Leaseurope will be working closely on these points, as well as the lessee accounting requirements, with both the IASB and the European Financial Reporting Advisory Group (EFRAG), in the run up to the publication of a new Exposure Draft. We also remain in close contact with our colleagues in the US and other countries across the globe and continue to work together to present converged industry views to the standard setters.